Question

Envision Company has a target return on capital of 12 percent. The following financial information is available for October ($ thousands):

Software Division (Value Base) Consulting Division (Value Base) Venture Capital Division (Value Base)
Book Current Book Current Book Current
Sales $150,000 $150,000 $250,000 $250,000 $850,000 $850,000
Income 17,750 17,200 21,900 25,520 62,230 57,420
Assets 70,000 90,000 100,000 110,000 610,000 590,000
Liabilities 10,000 10,000 14,000 14,000 40,000 40,000

Required:
a. Compute the return on investment using both book and current values for each division.
b. Compute the residual income for both book and current values for each division.

Answer 1

Envision Company

Software Division Consulting Division Venture Capital Division

(Value Base) (Value Base) (Value Base)

Book Current Book Current Book Current

a) Return on investment

= 25.3% 19% 21.9% 23.2% 10.2% 9.7%

b) Residual income = operating income - (minimum required return x operating assets)

= 9,350 6,400 9,900 12,320 (10,970) (13,380)

Step-by-step explanation:

a) Data and Calculations:

Target return on capital = 12%

Software Division Consulting Division Venture Capital Division

(Value Base) (Value Base) (Value Base)

Book Current Book Current Book Current

Sales $150,000 $150,000 $250,000 $250,000 $850,000 $850,000

Income 17,750 17,200 21,900 25,520 62,230 57,420

Assets 70,000 90,000 100,000 110,000 610,000 590,000

Liabilities 10,000 10,000 14,000 14,000 40,000 40,000

Software Division Consulting Division Venture Capital Division

(Value Base) (Value Base) (Value Base)

Book Current Book Current Book Current

a) Return on investment = Income/Assets * 100

= 25.3% 19% 21.9% 23.2% 10.2% 9.7%

b) Residual income = operating income - (minimum required return x operating assets)

Minimum required returns (in dollar value) = 12% of Assets:

= 8,400 10,800 12,000 13,200 73,200 70,800

Residual income

= 9,350 6,400 9,900 12,320 (10,970) (13,380)